10-Q 1 d645593d10q.htm FORM 10-Q Form 10-Q
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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

OR

☐     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

Commission File Number 1-11758

 

 

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(Exact Name of Registrant as specified in its charter)

 

       

Delaware

(State or other jurisdiction of

incorporation or organization)

  

1585 Broadway

New York, NY 10036

(Address of principal executive offices, including zip code)

 

  

36-3145972

(I.R.S. Employer Identification No.)

  

(212) 761-4000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files).    Yes  ☒    No  ☐

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer  ☒

 

Accelerated Filer  ☐

Non-Accelerated Filer  ☐

 

Smaller reporting company  ☐

 

Emerging growth company  ☐

If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.          ☐

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  ☒

As of October 31, 2018, there were 1,720,154,771 shares of the Registrant’s Common Stock, par value $0.01 per share, outstanding.


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QUARTERLY REPORT ON FORM 10-Q

For the quarter ended September 30, 2018

 

Table of Contents    Part    Item    Page  

Financial Information

   I            

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   I    2       

Introduction

                

Executive Summary

                

Business Segments

                

Supplemental Financial Information and Disclosures

               17   

Accounting Development Updates

               17   

Critical Accounting Policies

               18   

Liquidity and Capital Resources

               18   

Quantitative and Qualitative Disclosures about Risk

   I    3      30   

Market Risk

               30   

Credit Risk

               32   

Report of Independent Registered Public Accounting Firm

               39   

Consolidated Financial Statements and Notes

   I    1      40   

Consolidated Income Statements (Unaudited)

               40   

Consolidated Comprehensive Income Statements (Unaudited)

               41   

Consolidated Balance Sheets (Unaudited at September 30, 2018)

               42   

Consolidated Statements of Changes in Total Equity (Unaudited)

               43   

Consolidated Cash Flow Statements (Unaudited)

               44   

Notes to Consolidated Financial Statements (Unaudited)

               45   

1.  Introduction and Basis of Presentation

               45   

2.  Significant Accounting Policies

               46   

3.  Fair Values

               48   

4.  Derivative Instruments and Hedging Activities

               58   

5.  Investment Securities

               61   

6.  Collateralized Transactions

               64   

7.  Loans, Lending Commitments and Allowance for Credit Losses

               65   

8.  Equity Method Investments

               67   

9.  Deposits

               68   

10.  Borrowings and Other Secured Financings

               68   

11.  Commitments, Guarantees and Contingencies

               68   

12.  Variable Interest Entities and Securitization Activities

               72   

13.  Regulatory Requirements

               74   

14.  Total Equity

               76   

15.  Earnings per Common Share

               79   

16.  Interest Income and Interest Expense

               79   

17.  Employee Benefit Plans

               79   

18.  Income Taxes

               80   

19.  Segment, Geographic and Revenue Information

               80   

20.  Subsequent Events

               83   

Financial Data Supplement (Unaudited)

               84   

Glossary of Common Acronyms

               87   

Other Information

   II           89   

Legal Proceedings

   II    1      89   

Unregistered Sales of Equity Securities and Use of Proceeds

   II    2      90   

Controls and Procedures

   I    4      91   

Exhibits

   II    6      91   

Exhibit Index

               E-1   

Signatures

               S-1   

 

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Available Information

We file annual, quarterly and current reports, proxy statements and other information with the SEC. The SEC maintains an internet site, www.sec.gov, that contains annual, quarterly and current reports, proxy and information statements and other information that issuers file electronically with the SEC. Our electronic SEC filings are available to the public at the SEC’s internet site.

Our internet site is www.morganstanley.com. You can access our Investor Relations webpage at www.morganstanley.com/about-us-ir. We make available free of charge, on or through our Investor Relations webpage, our Proxy Statements, Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports filed or furnished pursuant to the Securities Exchange Act of 1934, as amended (“Exchange Act”), as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC. We also make available, through our Investor Relations webpage, via a link to the SEC’s internet site, statements of beneficial ownership of our equity securities filed by our directors, officers, 10% or greater shareholders and others under Section 16 of the Exchange Act.

You can access information about our corporate governance at www.morganstanley.com/about-us-governance. Our Corporate Governance webpage includes:

 

   

Amended and Restated Certificate of Incorporation;

   

Amended and Restated Bylaws;

   

Charters for our Audit Committee, Compensation, Management Development and Succession Committee, Nominating and Governance Committee, Operations and Technology Committee, and Risk Committee;

   

Corporate Governance Policies;

   

Policy Regarding Corporate Political Activities;

   

Policy Regarding Shareholder Rights Plan;

   

Equity Ownership Commitment;

   

Code of Ethics and Business Conduct;

   

Code of Conduct;

   

Integrity Hotline Information; and

   

Environmental and Social Policies.

Our Code of Ethics and Business Conduct applies to all directors, officers and employees, including our Chief Executive Officer, Chief Financial Officer and Deputy Chief Financial Officer. We will post any amendments to the Code of Ethics and Business Conduct and any waivers that are required to be disclosed by the rules of either the SEC or the New York Stock Exchange LLC (“NYSE”) on our internet site. You can request a copy of these documents, excluding exhibits, at no cost, by contacting Investor Relations, 1585 Broadway, New York, NY 10036 (212-761-4000). The information on our internet site is not incorporated by reference into this report.

 

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Management’s Discussion and Analysis of Financial Condition and Results of Operations

Introduction

 

Morgan Stanley is a global financial services firm that maintains significant market positions in each of its business segments—Institutional Securities, Wealth Management and Investment Management. Morgan Stanley, through its subsidiaries and affiliates, provides a wide variety of products and services to a large and diversified group of clients and customers, including corporations, governments, financial institutions and individuals. Unless the context otherwise requires, the terms “Morgan Stanley,” “Firm,” “us,” “we” or “our” mean Morgan Stanley (the “Parent Company”) together with its consolidated subsidiaries. We define the following as part of our consolidated financial statements (“financial statements”): consolidated income statements (“income statements”), consolidated balance sheets (“balance sheets”), and consolidated cash flow statements (“cash flow statements”). See the “Glossary of Common Acronyms” for definitions of certain acronyms used throughout this Form 10-Q.

A description of the clients and principal products and services of each of our business segments is as follows:

Institutional Securities provides investment banking, sales and trading, lending and other services to corporations, governments, financial institutions, and high to ultra-high net worth clients. Investment banking services consist of capital raising and financial advisory services, including services relating to the underwriting of debt, equity and other securities, as well as advice on mergers and acquisitions, restructurings, real estate and project finance. Sales and trading services include sales, financing, prime brokerage and market-making activities in equity and fixed income products, including foreign exchange and commodities. Lending services include originating and/or purchasing corporate loans, commercial and residential mortgage lending, asset-backed lending and financing extended to equities and commodities customers and municipalities. Other activities include investments and research.

Wealth Management provides a comprehensive array of financial services and solutions to individual investors and small to medium-sized businesses and institutions covering brokerage and investment advisory services, financial and wealth planning services, annuity and insurance products, credit and other lending products, banking and retirement plan services.

Investment Management provides a broad range of investment strategies and products that span geographies, asset classes, and public and private markets to a diverse group of clients across institutional and intermediary channels. Strategies and products include equity, fixed income, liquidity and alternative/other products. Institutional clients include defined benefit/defined contribution plans, foundations, endowments, government entities, sovereign wealth funds, insurance companies, third-party fund sponsors and corporations. Individual clients are serviced through intermediaries, including affiliated and non-affiliated distributors.

The results of operations in the past have been, and in the future may continue to be, materially affected by competition; risk factors; and legislative, legal and regulatory developments; as well as other factors. These factors also may have an adverse impact on our ability to achieve our strategic objectives. Additionally, the discussion of our results of operations herein may contain forward-looking statements. These statements, which reflect management’s beliefs and expectations, are subject to risks and uncertainties that may cause actual results to differ materially. For a discussion of the risks and uncertainties that may affect our future results, see “Forward-Looking Statements,” “Business—Competition,” “Business—Supervision and Regulation” and “Risk Factors” in the 2017 Form 10-K, and “Liquidity and Capital Resources” herein.

 

 

  1   September 2018 Form 10-Q


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Management’s Discussion and Analysis    LOGO

 

Executive Summary

Overview of Financial Results

 

Consolidated Results

Net Revenues

($ in millions)

 

 

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Net Income Applicable to Morgan Stanley

($ in millions)

 

 

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Earnings per Common Share1

 

 

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1.

For the calculation of basic and diluted EPS, see Note 15 to the financial statements.

 

We reported net revenues of $9,872 million in the quarter ended September 30, 2018 (“current quarter,” or “3Q 2018”), compared with $9,197 million in the quarter ended September 30, 2017 (“prior year quarter,” or “3Q 2017”). For the current quarter, net income applicable to Morgan Stanley was $2,112 million, or $1.17 per diluted common share, compared with $1,781 million, or $0.93 per diluted common share, in the prior year quarter.

 

 

We reported net revenues of $31,559 million in the nine months ended September 30, 2018 (“current year period,” or “YTD 2018”), compared with $28,445 million in the nine months ended September 30, 2017 (“prior year period,” or “YTD 2017”). For the current year period, net income applicable to Morgan Stanley was $7,217 million, or $3.92 per diluted common share, compared with $5,468 million, or $2.79 per diluted common share, in the prior year period.

 

 

September 2018 Form 10-Q   2  


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Non-interest Expenses1

($ in millions)

 

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1.

The percentages on the bars in the charts represent the contribution of compensation and benefits expenses and non-compensation expenses to the total.

 

Compensation and benefits expenses of $4,310 million in the current quarter and $13,845 million in the current year period increased 3% and 7%, respectively, from $4,169 million in the prior year quarter and $12,887 million in the prior year period. These results primarily reflected increases in discretionary incentive compensation mainly driven by higher revenues as well as salaries across all business segments. These increases were partially offset by a decrease in the fair value of investments to which certain deferred compensation plans are referenced.

 

 

Non-compensation expenses were $2,711 million in the current quarter and $8,334 million in the current year period compared with $2,546 million in the prior year quarter and $7,626 million in the prior year period, representing a 6% and a 9% increase, respectively. These increases were primarily as a result of higher volume-related expenses, the gross presentation of certain expenses due to the adoption of the accounting update Revenue from Contracts with Customers (see Notes 2 and 19 to the financial statements for further information) and increased investment in technology. In the current quarter, these increases were partially offset by lower litigation expenses.

Income Taxes

The current year period includes intermittent net discrete tax benefits of $92 million, primarily associated with new information pertaining to the resolution of multi-jurisdiction tax examinations and other matters. The prior year quarter and prior year period included intermittent net discrete tax benefits of $83 million and $65 million, respectively, primarily resulting from the remeasurement of certain deferred taxes. In addition, the effective tax rate is lower in the current quarter and current year period compared with the corresponding prior periods primarily as a result of the enactment of the U.S. Tax Cuts and Jobs Act (“Tax Act”). For further information, see “Supplemental Financial Information and Disclosures—Income Tax Matters” herein.

 

 

  3   September 2018 Form 10-Q


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Selected Financial Information and Other Statistical Data

 

    Three Months
Ended
September 30,
   

Nine Months

Ended
September 30,

 
$ in millions   2018     2017     2018     2017  

Income from continuing operations applicable to Morgan Stanley

  $     2,113     $     1,775     $     7,222     $     5,489   

Income (loss) from discontinued operations applicable to Morgan Stanley

    (1     6       (5     (21)  

Net income applicable to Morgan Stanley

    2,112       1,781       7,217       5,468   

Preferred stock dividends and other

    93       93       356       353   

Earnings applicable to Morgan Stanley common shareholders

  $ 2,019     $ 1,688     $ 6,861     $ 5,115   

Expense efficiency ratio1

    71.1%       73.0%       70.3%       72.1%   

ROE2

    11.5%       9.6%       13.1%       9.8%   

ROTCE2

    13.2%       11.0%       15.1%       11.3%   

 

in millions, except per share and employee data  

At
September 30,

2018

    At
December 31,
2017
 

GLR3

  $ 214,848     $ 192,660   

Loans4

  $ 109,983     $ 104,126   

Total assets

  $ 865,517     $ 851,733   

Deposits

  $ 175,185     $ 159,436   

Borrowings

  $ 190,889     $ 192,582   

Common shares outstanding

    1,726       1,788   

Common shareholders’ equity

  $ 70,183     $ 68,871   

Tangible common shareholders’ equity2

  $ 61,265     $ 59,829   

Book value per common share5

  $ 40.67     $ 38.52   

Tangible book value per common share2, 5

  $ 35.50     $ 33.46   

Worldwide employees

    59,835       57,633   
    

At

September 30,
2018

   

At

December 31,
2017

 

 Capital ratios6

   

 Common Equity Tier 1 capital ratio

    16.7%       16.5%   

 Tier 1 capital ratio

    19.0%       18.9%   

 Total capital ratio

    21.6%       21.7%   

 Tier 1 leverage ratio

    8.2%       8.3%   

 SLR7

    6.4%       6.5%   

 

1.

The expense efficiency ratio represents total non-interest expense as a percentage of net revenues.

2.

Represents a non-GAAP measure. See “Selected Non-GAAP Financial Information” herein.

3.

For a discussion of the GLR, see “Liquidity and Capital Resources—Liquidity Risk Management Framework—Global Liquidity Reserve” herein.

4.

Amounts include loans held for investment (net of allowance) and loans held for sale but exclude loans at fair value, which are included in Trading assets in the balance sheets (see Note 7 to the financial statements).

5.

Book value per common share and tangible book value per common share equal common shareholders’ equity and tangible common shareholders’ equity, respectively, divided by common shares outstanding.

6.

Beginning in 2018, our risk based capital ratios are based on the Standardized Approach fully phased-in rules. At December 31, 2017, our risk based capital ratios were based on the Standardized Approach transitional rules. For a discussion of our regulatory capital ratios, see “Liquidity and Capital Resources—Regulatory Requirements” herein.

7.

The SLR became effective as a capital standard on January 1, 2018. For a discussion of the SLR, see “Liquidity and Capital Resources—Regulatory Requirements” herein.

Business Segment Results

Net Revenues by Segment1, 2 

($ in millions)

 

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September 2018 Form 10-Q   4  


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Net Income Applicable to Morgan Stanley by Segment1, 3

($ in millions)

 

 

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1.

The percentages in the charts represent the contribution of each business segment to the total. Amounts do not necessarily total to 100% due to intersegment eliminations, where applicable.

2.

The total amount of Net Revenues by Segment includes intersegment eliminations of $(109) million and $(74) million in the current quarter and prior year quarter, respectively, and $(344) million and $(223) million in the current year period and prior year period, respectively.

3.

The total amount of Net Income Applicable to Morgan Stanley by Segment includes intersegment eliminations of $(1) million and $(4) million in the current quarter and prior year quarter, respectively, and $(1) million and $(2) million in the current year period and the prior year period, respectively.

 

Institutional Securities net revenues of $4,929 million in the current quarter and $16,743 million in the current year period increased 13% from the prior year quarter and 17% from the prior year period primarily reflecting higher revenues from both sales and trading and Investment banking.

 

Wealth Management net revenues of $4,399 million in the current quarter and $13,098 million in the current year period increased 4% from the prior year quarter and 5% from the prior year period primarily reflecting growth in Asset management revenues.

 

Investment Management net revenues of $653 million in the current quarter and $2,062 million in the current year period decreased 3% from the prior year quarter and increased 6% from the prior year period. The current quarter results primarily reflected lower investment gains. The current year period reflected higher Asset management revenues, partially offset by lower investment gains.

Net Revenues by Region1, 2

($ in millions)

 

 

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1.

For a discussion of how the geographic breakdown for net revenues is determined, see Note 19 to the financial statements.

2.

The percentages on the bars in the charts represent the contribution of each region to the total.

Selected Non-GAAP Financial Information

We prepare our financial statements using U.S. GAAP. From time to time, we may disclose certain “non-GAAP financial measures” in this document or in the course of our earnings releases, earnings and other conference calls, financial presentations, Definitive Proxy Statement and otherwise. A “non-GAAP financial measure” excludes, or includes, amounts from the most directly comparable measure calculated and presented in accordance with U.S. GAAP. We consider the non-GAAP financial measures we disclose to be useful to us, investors and analysts by providing further transparency about, or an alternate means of assessing, our financial condition, operating results, prospective regulatory capital requirements or capital adequacy.

These measures are not in accordance with, or a substitute for, U.S. GAAP and may be different from or inconsistent with non-GAAP financial measures used by other companies. Whenever we refer to a non-GAAP financial measure, we will also generally define it or present the most directly comparable financial measure calculated and presented in accordance with U.S. GAAP, along with a reconciliation of the

 

 

  5   September 2018 Form 10-Q


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differences between the U.S. GAAP financial measure and the non-GAAP financial measure.

The principal non-GAAP financial measures presented in this document are set forth below.

Reconciliations from U.S. GAAP to Non-GAAP Consolidated Financial Measures

 

$ in millions, except

 

 

Three Months Ended
September 30,

 
 

   
Nine Months Ended
September 30,
 
 

per share data

    2018       2017       2018       2017  

Net income applicable to
Morgan Stanley

  $ 2,112     $ 1,781     $ 7,217     $ 5,468   

Impact of adjustments

    (4     (83     (92     (65)  

Adjusted net income applicable to Morgan Stanley—non-GAAP1

  $ 2,108       1,698     $ 7,125       5,403   

Earnings per diluted
common share

  $ 1.17     $ 0.93     $ 3.92     $ 2.79   

Impact of adjustments

          (0.05     (0.05     (0.03)  

Adjusted earnings per diluted common share—non-GAAP1

  $ 1.17     $ 0.88     $ 3.87     $ 2.76   

Effective income tax rate

    24.4%       28.1%       21.9%       29.7%   

Impact of adjustments

    0.2%       3.3%       0.9%       0.8%   

Adjusted effective income tax rate—non-GAAP1

    24.6%       31.4%       22.8%       30.5%   

 

$ in millions  

At

September 30,
2018

   

At
December 31,
2017

 

Tangible Equity

   

U.S. GAAP

   

Morgan Stanley shareholders’ equity

  $ 78,703     $ 77,391   

Less: Goodwill and net intangible assets

    (8,918     (9,042)  

Morgan Stanley tangible shareholders’ equity—non-GAAP

 

  $

 

69,785

 

 

 

  $

 

68,349 

 

 

 

U.S. GAAP

   

Common equity

  $ 70,183     $ 68,871   

Less: Goodwill and net intangible assets

    (8,918     (9,042)  

Tangible common equity—non-GAAP

 

  $

 

61,265

 

 

 

  $

 

59,829 

 

 

 

 

$ in millions

  Average Monthly Balance  
  Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2018          2017         2018         2017    

Tangible Equity

       

U.S. GAAP

       

Morgan Stanley shareholders’ equity

  $ 78,760     $ 79,007     $ 78,165     $ 78,206   

Less: Goodwill and net intangible assets

    (8,970     (9,120     (9,020     (9,192)  

Morgan Stanley tangible shareholders’ equity—non-GAAP

 

  $

 

69,790

 

 

 

  $

 

69,887

 

 

 

  $

 

69,145

 

 

 

  $

 

69,014 

 

 

 

U.S. GAAP

       

Common equity

  $ 70,240     $ 70,487     $ 69,645     $ 69,786   

Less: Goodwill and net intangible assets

    (8,970     (9,120     (9,020     (9,192)  

Tangible common equity—non-GAAP

 

  $

 

61,270

 

 

 

  $

 

61,367

 

 

 

  $

 

  60,625

 

 

 

  $

 

  60,594 

 

 

 

Consolidated Non-GAAP Financial Measures

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
$ in billions       2018             2017             2018             2017      

Average common equity

 

 

Unadjusted

  $ 70.2     $ 70.5     $ 69.6     $ 69.8   

Adjusted1

    70.2       70.5       69.6       69.8   

ROE2

 

 

Unadjusted

    11.5%       9.6%       13.1%       9.8%   

Adjusted1, 3

    11.5%       9.1%       13.0%       9.6%   

Average tangible common equity

 

 

Unadjusted

  $ 61.3     $ 61.4     $ 60.6     $ 60.6   

Adjusted1

    61.3       61.3       60.6       60.6   

ROTCE2

 

 

Unadjusted

    13.2%       11.0%       15.1%       11.3%   

Adjusted1, 3

    13.2%       10.5%       14.9%       11.1%   
 

 

September 2018 Form 10-Q   6  


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Non-GAAP Financial Measures by Business Segment

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 

$ in billions

        2018               2017               2018               2017      

Pre-tax profit margin4

 

   

Institutional Securities

    32%       28%       33%       31%   

Wealth Management

    27%       27%       27%       25%   

Investment Management

    16%       19%       19%       19%   

Consolidated

    29%       27%       30%       28%   

Average common equity5

 

     

Institutional Securities

  $ 40.8     $ 40.2     $ 40.8     $ 40.2   

Wealth Management

    16.8       17.2       16.8       17.2   

Investment Management

    2.6       2.4       2.6       2.4   

Parent Company

    10.0       10.7       9.4       10.0   

Consolidated average
common equity

  $ 70.2     $ 70.5     $ 69.6     $ 69.8   

Average tangible common equity5

 

     

Institutional Securities

  $ 40.1     $ 39.6     $ 40.1     $ 39.6   

Wealth Management

    9.2       9.3       9.2       9.3   

Investment Management

    1.7       1.6       1.7       1.6   

Parent Company

    10.3       10.9       9.6       10.1   

Consolidated average
tangible common equity

  $ 61.3     $ 61.4     $ 60.6     $ 60.6   

ROE2, 6

 

     

Institutional Securities

    10.3%       8.9%       12.8%       9.6%   

Wealth Management

    21.3%       15.8%       20.9%       15.0%   

Investment Management

    12.0%       18.8%       15.7%       15.4%   

Consolidated

    11.5%       9.6%       13.1%       9.8%   

ROTCE2, 6

 

     

Institutional Securities

    10.4%       9.1%       13.0%       9.8%   

Wealth Management

    38.9%       29.1%       38.1%       27.7%   

Investment Management

    18.8%       27.7%       24.5%       22.7%   

Consolidated

    13.2%       11.0%       15.1%       11.3%   

 

1.

Adjusted amounts exclude intermittent net discrete tax provisions (benefits). Income tax consequences associated with employee share-based awards are recognized in Provision for income taxes in the income statements but are excluded from the intermittent net discrete tax provisions (benefits) adjustment as we anticipate conversion activity each quarter. For further information on the net discrete tax provisions (benefits), see “Supplemental Financial Information and Disclosures—Income Tax Matters” herein.

2.

ROE and ROTCE equal annualized net income applicable to Morgan Stanley less preferred dividends as a percentage of average common equity and average tangible common equity, on a consolidated basis as indicated. When excluding intermittent net discrete tax provisions (benefits), both the numerator and denominator are adjusted.

3.

The calculations used in determining our “ROE and ROTCE Targets” referred to in the following section are the Adjusted ROE and Adjusted ROTCE amounts shown in this table.

4.

Pre-tax profit margin represents income from continuing operations before income taxes as a percentage of net revenues.

5.

Average common equity and average tangible common equity for each business segment are determined using our Required Capital framework (see “Liquidity and Capital Resources—Regulatory Requirements—Attribution of Average Common Equity According to the Required Capital Framework” herein).

6.

The calculation of the ROE and ROTCE by segment uses the annualized net income applicable to Morgan Stanley by segment less preferred dividends allocated to each segment as a percentage of average common equity and average tangible common equity, respectively, allocated to each segment.

Return on Equity and Tangible Common Equity Targets

In January 2018, we established an ROE Target of 10% to 13% and an ROTCE Target of 11.5% to 14.5% for the medium term.

Our ROE and ROTCE Targets are forward-looking statements that may be materially affected by many factors, including, among other things: macroeconomic and market conditions; legislative and regulatory developments; industry trading and investment banking volumes; equity market levels; interest rate environment; outsize legal expenses or penalties and the ability to maintain a reduced level of expenses; and capital levels. For further information on our ROE and ROTCE Targets and related assumptions, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Executive Summary—Return on Equity and Tangible Common Equity Targets” in the 2017 Form 10-K.

Business Segments

Substantially all of our operating revenues and operating expenses are directly attributable to the business segments. Certain revenues and expenses have been allocated to each business segment, generally in proportion to its respective net revenues, non-interest expenses or other relevant measures.

As a result of treating certain intersegment transactions as transactions with external parties, we include an Intersegment Eliminations category to reconcile the business segment results to our consolidated results. See Note 19 to the financial statements for further information.

Net Revenues, Compensation Expense and Income Taxes

For an overview of the components of our net revenues, compensation expense and income taxes, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Business Segments” in the 2017 Form 10-K.

 

 

  7   September 2018 Form 10-Q


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Institutional Securities

Income Statement Information

 

     Three Months Ended  
September 30,

 

       
$ in millions     2018         2017       % Change  

Revenues

     

Investment banking

  $ 1,459     $ 1,270       15%  

Trading

    2,573       2,504       3%  

Investments

    96       52       85%  

Commissions and fees

    589       561       5%  

Asset management

    112       88       27%  

Other

    244       143       71%  

Total non-interest revenues

    5,073       4,618       10%  

Interest income

    2,425       1,421       71%  

Interest expense

    2,569       1,663       54%  

Net interest

    (144     (242     40%  

Net revenues

    4,929       4,376       13%  

Compensation and benefits

    1,626       1,532       6%  

Non-compensation expenses

    1,747       1,608       9%  

Total non-interest expenses

    3,373       3,140       7%  

Income from continuing operations before income taxes

    1,556       1,236       26%  

Provision for income taxes

    397       260       53%  

Income from continuing operations

    1,159       976       19%  

Income (loss) from discontinued operations, net of income taxes

    (3     6       (150)%  

Net income

    1,156       982       18%  

Net income applicable to noncontrolling interests

    36       9       N/M  

Net income applicable to Morgan Stanley

  $ 1,120     $ 973       15%  
     Nine Months Ended  
September 30,

 

       
$ in millions     2018         2017       % Change  

Revenues

     

Investment banking

  $ 4,671     $ 4,100       14%  

Trading

    9,344       8,241       13%  

Investments

    234       155       51%  

Commissions and fees

    2,007       1,811       11%  

Asset management

    324       268       21%  

Other

    548       442       24%  

Total non-interest revenues

    17,128       15,017       14%  

Interest income

    6,424       3,788       70%  

Interest expense

    6,809       4,515       51%  

Net interest

    (385     (727     47%  

Net revenues

    16,743       14,290       17%  

Compensation and benefits

    5,779       5,069       14%  

Non-compensation expenses

    5,484       4,812       14%  

Total non-interest expenses

    11,263       9,881       14%  

Income from continuing operations before income taxes

    5,480       4,409       24%  

Provision for income taxes

    1,169       1,132       3%  

Income from continuing operations

    4,311       3,277       32%  

Income (loss) from discontinued operations, net of income taxes

    (7     (21     67%  

Net income

    4,304       3,256       32%  

Net income applicable to noncontrolling interests

    100       77       30%  

Net income applicable to Morgan Stanley

  $ 4,204     $ 3,179       32%  
 

 

September 2018 Form 10-Q   8  


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Management’s Discussion and Analysis    LOGO

 

Investment Banking

Investment Banking Revenues

 

      Three Months Ended    
September 30,

 

       
$ in millions       2018             2017         % Change  

Advisory

  $ 510     $ 555         (8)%   

Underwriting:

     

Equity

    441       273         62%   

Fixed income

    508       442         15%   

Total underwriting

    949       715         33%   

Total investment banking

  $ 1,459     $ 1,270         15%   

 

      Nine Months Ended    
September 30,

 

       
$ in millions       2018             2017         % Change  

Advisory

  $ 1,702     $ 1,555         9%   

Underwriting:

     

Equity

    1,403       1,068         31%   

Fixed income

    1,566       1,477         6%   

Total underwriting

    2,969       2,545         17%   

Total investment banking

  $ 4,671     $ 4,100         14%   

Investment Banking Volumes

 

   

Three Months Ended
September 30,

 

   

Nine Months Ended
September 30,

 

 
$ in billions       2018              2017              2018             2017      

Completed mergers and acquisitions1

  $ 164     $ 238     $ 665     $ 615   

Equity and equity-related offerings2, 3

    14       17       52       46   

Fixed income offerings2, 4

    66       65       183       210   

Source: Thomson Reuters, data as of October 1, 2018. Transaction volumes may not be indicative of net revenues in a given period. In addition, transaction volumes for prior periods may vary from amounts previously reported due to the subsequent withdrawal or change in the value of a transaction.

 

1.

Includes transactions of $100 million or more. Based on full credit to each of the advisors in a transaction.

2.

Based on full credit for single book managers and equal credit for joint book managers.

3.

Includes Rule 144A issuances and registered public offerings of common stock and convertible securities and rights offerings.

4.

Includes Rule 144A and publicly registered issuances, non-convertible preferred stock, mortgage-backed and asset-backed securities, and taxable municipal debt. Excludes leveraged loans and self-led issuances.

Investment banking revenues are composed of fees from advisory services and revenues from the underwriting of securities offerings and syndication of loans, net of syndication expenses.

Investment banking revenues of $1,459 million in the current quarter and $4,671 million in the current year period increased 15% and 14% from the comparable prior year periods. The adoption of the accounting update Revenue from Contracts with Customers had the effect of increasing the revenues reported in investment banking by approximately $69 million in the current quarter and $230 million in the current year period compared with the prior year periods (see Notes 2 and

19 to the financial statements for further information). The drivers of the increase in our Investment banking revenues, other than the effect of this accounting update, were:

 

 

Advisory revenues decreased in the current quarter primarily reflecting lower volumes of completed M&A activity (see Investment Banking Volumes table), partially offset by higher fee realizations. In the current year period, advisory revenues increased primarily due to higher volumes of completed M&A activity.

 

 

Equity underwriting revenues increased in the current quarter and current year period primarily as a result of higher fee realizations. In both the current quarter and current year period, revenues increased in initial public offerings, convertibles and follow-ons.

 

 

Fixed income underwriting revenues increased in the current quarter and current year period primarily due to higher fee realizations. In the current quarter, revenues increased in investment grade bond fees and loan fees, which benefited from event-related financings, partially offset by lower non-investment grade bond fees. Fixed income underwriting revenues increased in the current year period primarily due to higher loan fees, partially offset by lower non-investment grade bond fees.

Sales and Trading Net Revenues

By Income Statement Line Item

 

      Three Months Ended  
September 30,

 

 

       
$ in millions       2018             2017         % Change   

Trading

  $ 2,573     $ 2,504       3%   

Commissions and fees

    589       561       5%   

Asset management

    112       88       27%   

Net interest

    (144     (242     40%   

Total

  $ 3,130     $ 2,911       8%   

 

      Nine Months Ended  
September 30,

 

       
$ in millions       2018             2017         % Change   

Trading

  $ 9,344     $ 8,241       13%   

Commissions and fees

    2,007       1,811       11%   

Asset management

    324       268       21%   

Net interest

    (385     (727     47%   

Total

  $ 11,290     $ 9,593       18%   

By Business

 

      Three Months Ended  
September 30,

 

       
$ in millions       2018             2017         % Change   

Equity

  $ 2,019     $ 1,891       7%   

Fixed income

    1,179       1,167       1%   

Other

    (68     (147     54%   

Total

  $ 3,130     $ 2,911       8%   
 

 

  9   September 2018 Form 10-Q


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Management’s Discussion and Analysis    LOGO

 

    Nine Months Ended
September 30,
       
$ in millions           2018                 2017            % Change    

 

Equity

  $ 7,047     $ 6,062       16%  

Fixed income

    4,441       4,120       8%  

Other

    (198     (589     66%  

Total

  $         11,290     $         9,593       18%  

Sales and Trading Revenues—Equity and Fixed Income

 

    Three Months Ended
September 30, 2018
 
$ in millions   Trading     Fees1     Net
Interest2
    Total  

 

Financing

  $         1,097     $ 99     $         (141   $         1,055   

Execution services

    554       524       (114     964   

Total Equity

  $ 1,651     $         623     $ (255   $ 2,019   

Total Fixed Income

  $ 1,189     $ 78     $ (88   $ 1,179   

 

    Three Months Ended
September 30, 2017
 
$ in millions   Trading     Fees1     Net
Interest2
    Total  

 

Financing

  $         1,029     $ 92     $         (206   $ 915   

Execution services

    540       495       (59     976   

Total Equity

  $ 1,569     $         587     $ (265   $         1,891   

Total Fixed income

  $ 1,073     $ 65     $ 29     $ 1,167   

 

    Nine Months Ended
September 30, 2018
 
$ in millions   Trading     Fees1     Net
Interest2
    Total  

 

Financing

  $         3,704     $ 295     $         (479   $         3,520   

Execution services

    2,006       1,793       (272     3,527   

Total Equity

  $ 5,710     $         2,088     $ (751   $ 7,047   

Total Fixed Income

  $ 4,203     $ 244     $ (6   $ 4,441   

 

    Nine Months Ended
September 30, 2017
 
$ in millions   Trading     Fees1     Net
Interest2
    Total  

 

Financing

  $         3,126     $ 269     $ (621   $         2,774   

Execution services

    1,805       1,643       (160     3,288   

Total Equity

  $ 4,931     $         1,912     $         (781   $ 6,062   

Total Fixed income

  $ 3,785     $ 167     $ 168     $ 4,120   

 

1.

Includes Commissions and fees and Asset management revenues.

2.

Includes funding costs which are allocated to the businesses based on funding usage.

As discussed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Business Segments—Net Revenues by Segment” in the 2017 Form 10-K, we manage each of the sales and trading businesses based on its aggregate net revenues. We provide qualitative commentary in the discussion of results that follow on the key drivers of period over period variances, as the quantitative impact of the various market dynamics typically cannot be disaggregated.

For additional information on total Trading revenues, see the table “Trading Revenues by Product Type” in Note 19 to the financial statements.

Sales and Trading Net Revenues during the Current Quarter

Equity

Equity sales and trading net revenues of $2,019 million in the current quarter increased 7% from the prior year quarter, reflecting higher results in our financing businesses.

 

 

Financing revenues increased from the prior year quarter, primarily due to client positioning and higher average client balances, which resulted in both increased Trading and Net interest revenues.

 

 

Execution services remained relatively unchanged from the prior year quarter as higher commissions revenue was offset by increased funding costs.

Fixed Income

Fixed income net revenues of $1,179 million in the current quarter were 1% higher than the prior year quarter, driven by higher results in commodities products and other, partially offset by lower results in credit products and higher funding costs.

 

 

Global macro products revenues remained relatively unchanged from the prior year quarter as higher results in foreign exchange products were offset by lower results in interest rates products, both of which were primarily driven by levels of client activity.

 

 

Credit products revenues decreased primarily due to a decline in Trading revenue associated with unfavorable corporate credit products inventory management.

 

 

Commodities products and Other increased driven primarily by inventory management gains in power and natural gas products.

Other

Other sales and trading net losses of $68 million in the current quarter decreased from the prior year quarter, primarily from lower net funding costs reflecting changes in the balance sheet.

Sales and Trading Net Revenues during the Current Year Period

Equity

Equity sales and trading net revenues of $7,047 million in the current year period increased 16% from the prior year period, reflecting higher results in both our financing businesses and execution services.

 

 

Financing revenues increased from the prior year period, primarily due to higher average client balances and client positioning, which resulted in both increased Trading and Net interest revenues.

 

 

September 2018 Form 10-Q   10  


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Management’s Discussion and Analysis    LOGO

 

 

Execution services increased from the prior year period, primarily reflecting higher Trading revenues driven by effective inventory management in derivative products. Commissions and fees also increased due to higher client activity in cash equities products, but were partially offset by increased funding costs.

Fixed Income

Fixed income net revenues of $4,441 million in the current year period were 8% higher than the prior year period, primarily driven by higher results in commodities products and other, partially offset by lower results in credit products and higher funding costs.

 

 

Global macro products revenues remained relatively unchanged from the prior year period as higher results in foreign exchange products were offset by lower results in interest rates products, both of which were primarily driven by levels of client activity.

 

 

Credit products revenues decreased as a decline in Trading revenues associated with unfavorable corporate credit products inventory management was partially offset by growth in lending products.

 

 

Commodities products and Other increased primarily due to increased Commodities structured transactions and client flow and higher Trading revenues principally from a reduction in counterparty credit risk.

Other

Other sales and trading net losses of $198 million in the current year period decreased from the prior year period, primarily reflecting lower net funding costs. In addition, losses associated with corporate loan hedging activity were lower in the current year period compared with the prior year period.

Investments, Other Revenues, Non-interest Expenses and Income Tax Items

Investments

 

 

Net investment gains of $96 million in the current quarter and $234 million in the current year period increased from the prior year periods, primarily as a result of higher net gains on business-related investments, partially offset by lower results from real estate limited partnership investments.

Other Revenues

 

 

Other revenues of $244 million in the current quarter increased from the prior year quarter, primarily reflecting higher fees associated with corporate lending activity and

   

improved results from other equity method investments. Other revenues of $548 million in the current year period increased from the prior year period, primarily reflecting improved results from other equity method investments, the recovery of a previously charged off energy industry loan and higher fees associated with corporate lending activity, partially offset by lower gains associated with held-for-sale corporate loans.

Non-interest Expenses

Non-interest expenses of $3,373 million in the current quarter increased from the prior year quarter, reflecting a 6% increase in Compensation and benefits expenses and a 9% increase in Non-compensation expenses. Non-interest expenses of $11,263 million in the current year period increased from the prior year period reflecting a 14% increase in both Compensation and benefits expenses and Non-compensation expenses.

 

 

Compensation and benefits expenses increased in the current quarter and current year period, primarily due to an increase in discretionary incentive compensation driven by higher revenues, as well as salaries, partially offset by a decrease in the fair value of investments to which certain deferred compensation plans are referenced.

 

 

Non-compensation expenses increased in the current quarter and current year period, primarily due to higher volume-related expenses, and the gross presentation of certain expenses due to the adoption of the accounting update Revenue from Contracts with Customers (see Notes 2 and 19 to the financial statements for further information), partially offset by lower litigation expenses. In addition, in the current year period, the results were partially offset by the reversal of a portion of previously recorded provisions related to U.K. VAT matters.

Income Tax Items

The current year period includes intermittent net discrete tax benefits of $88 million, primarily associated with new information pertaining to the resolution of multi-jurisdiction tax examinations and other matters. The prior year quarter and prior year period included intermittent net discrete tax benefits of $75 million and $60 million, respectively, primarily resulting from the remeasurement of certain deferred taxes. In addition, the effective tax rate in the current year period is lower compared with the prior year period primarily as a result of the enactment of the Tax Act. For a discussion of the Tax Act, see “Supplemental Financial Information and Disclosures—Income Tax Matters” herein.

 

 

  11   September 2018 Form 10-Q


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Management’s Discussion and Analysis    LOGO

 

Wealth Management

 

Income Statement Information    

 

    Three Months Ended
September 30,
       
$ in millions       2018           2017       % Change  

Revenues

     

Investment banking

  $ 129     $ 125       3%  

Trading

    160       212       (25)%  

Investments

          1       (100)%  

Commissions and fees

    409       402       2%  

Asset management

    2,573       2,393       8%  

Other

    58       62       (6)%  

Total non-interest revenues

    3,329       3,195       4%  

Interest income

    1,412       1,155       22%  

Interest expense

    342       130       163%  

Net interest

    1,070       1,025       4%  

Net revenues

    4,399       4,220       4%  

Compensation and benefits

    2,415       2,326       4%  

Non-compensation expenses

    790       775       2%  

Total non-interest expenses

    3,205       3,101       3%  

Income from continuing operations before income taxes

    1,194       1,119       7%  

Provision for income taxes

    281       421       (33)%  

Net income applicable to Morgan Stanley

  $ 913     $ 698       31%  

 

    Nine Months Ended
September 30,
       
$ in millions       2018           2017       % Change  

Revenues

     

Investment banking

  $ 383     $ 405       (5)%  

Trading

    404       657       (39)%  

Investments

    3       3       —%  

Commissions and fees

    1,349       1,266       7%  

Asset management

    7,582       6,879       10%  

Other

    195       191       2%  

Total non-interest revenues

    9,916       9,401       5%  

Interest income

    4,012       3,348       20%  

Interest expense

    830       320       159%  

Net interest

    3,182       3,028       5%  

Net revenues

    13,098       12,429       5%  

Compensation and benefits

    7,221       6,940       4%  

Non-compensation expenses

    2,366       2,340       1%  

Total non-interest expenses

    9,587       9,280       3%  

Income from continuing operations before income taxes

    3,511       3,149       11%  

Provision for income taxes

    808       1,139       (29)%  

Net income applicable to Morgan Stanley

  $ 2,703     $ 2,010       34%  

Financial Information and Statistical Data

 

$ in billions  

 

At
September 30,
2018

   

 

At
December 31,
2017

 

Client assets

  $ 2,496     $ 2,373  

Fee-based client assets1

  $ 1,120     $ 1,045  

Fee-based client assets as a percentage of total client assets

    45%       44%  

Client liabilities2

  $ 83     $ 80  

Investment securities portfolio

  $ 59.8     $ 59.2  

Loans and lending commitments

  $ 81.8     $ 77.3  

Wealth Management representatives

    15,655       15,712  

 

   

Three Months Ended

September 30,

 
         2018              2017      

Per representative:

    

Annualized revenues ($ in thousands)3

  $ 1,125      $ 1,071  

Client assets ($ in millions)4

  $ 159      $ 146  

Fee-based asset flows ($ in billions)5

  $ 16.2      $ 15.8  

 

   

 Nine Months Ended 

September 30,

 
         2018              2017      

Per representative:

    

Annualized revenues ($ in thousands)3

  $ 1,114      $ 1,051  

Client assets ($ in millions)4

  $ 159      $ 146  

Fee-based asset flows ($ in billions)5

  $ 49.7      $ 54.5  

 

1.

Fee-based client assets represent the amount of assets in client accounts where the basis of payment for services is a fee calculated on those assets.

2.

Client liabilities include securities-based and tailored lending, residential real estate loans and margin lending.

3.

Annualized revenues per representative equal Wealth Management’s annualized revenues divided by the average representative headcount.

4.

Client assets per representative equal total period-end client assets divided by period-end representative headcount.

5.

Fee-based asset flows include net new fee-based assets, net account transfers, dividends, interest and client fees and exclude institutional cash management-related activity.

 

 

September 2018 Form 10-Q   12  


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Transactional Revenues    

 

     Three Months Ended 
September 30,
        
$ in millions       2018             2017          % Change  

Investment banking

  $ 129     $ 125        3%   

Trading

    160       212        (25)%   

Commissions and fees

    409       402        2%   

Total

  $ 698     $ 739        (6)%   

Transactional revenues as a % of
Net revenues

    16     18%     

 

     Nine Months Ended 
September 30,
        
$ in millions       2018             2017          % Change  

Investment banking

  $ 383     $ 405        (5)%   

Trading

    404       657        (39)%   

Commissions and fees

    1,349       1,266        7%   

Total

  $ 2,136     $ 2,328        (8)%   

Transactional revenues as a % of
Net revenues

    16%       19%     

Net Revenues

Transactional Revenues

Transactional revenues of $698 million in the current quarter and $2,136 million in the current year period decreased 6% and 8%, respectively, from the prior year periods primarily as a result of lower Trading revenues, partially offset by higher Commissions and fees.

 

 

Investment banking revenues were relatively unchanged in the current quarter. In the current year period, Investment banking revenues decreased primarily due to lower revenues from equity issuances.

 

 

Trading revenues decreased in the current quarter primarily as a result of lower fixed income revenue driven by product mix. In addition to lower fixed income revenue, Trading revenues decreased in the current year period as a result of lower gains related to investments associated with certain employee deferred compensation plans.

 

 

Commissions and fees were relatively unchanged in the current quarter. In the current year period, Commissions and fees increased primarily as a result of increased client transactions in alternatives and annuities products, partially offset by decreased activity in mutual funds.

Asset Management

Asset management revenues of $2,573 million in the current quarter and $7,582 million in the current year period increased 8% and 10%, respectively, primarily due to the effect of market appreciation and net positive flows on the respective beginning of period fee-based client assets balances on which billings are generally based, partially offset by lower average fee rates.

See “Fee-Based Client Assets Rollforwards” herein.

Net Interest

Net interest of $1,070 million in the current quarter and $3,182 million in the current year period increased 4% and 5%, respectively, primarily as a result of higher interest rates and higher loan balances. In the current quarter and current year period, the effect of higher interest rates on loans was partially offset by higher average interest rates on Deposits, due to changes in our deposit mix.

Non-interest Expenses

Non-interest expenses of $3,205 million in the current quarter and $9,587 million in the current year period both increased 3% primarily as a result of higher Compensation and benefits expenses.

 

 

Compensation and benefits expenses increased in the current quarter and current year period primarily due to the formulaic payout to Wealth Management representatives linked to higher revenues and increases in salaries. In the current year period, these increases were partially offset by a decrease in the fair value of investments to which certain deferred compensation plans are referenced.

 

 

Non-compensation expenses were relatively unchanged in both the current quarter and current year period, with increased investment in technology offset by a decrease in litigation expenses.

Income Tax Items

The effective tax rate in the current quarter and current year period is lower compared with the prior year periods primarily as a result of the enactment of the Tax Act. For a discussion of the Tax Act, see “Supplemental Financial Information and Disclosures—Income Tax Matters” herein.

 

 

  13   September 2018 Form 10-Q


Table of Contents
Management’s Discussion and Analysis    LOGO

 

Fee-Based Client Assets

For a description of fee-based client assets, including descriptions of the fee based client asset types and rollforward items in the following tables, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Business Segments—Wealth Management—Fee-Based Client Assets” in the 2017 Form 10-K.

Fee-Based Client Assets Rollforwards

 

$ in billions  

At

June 30,
2018

    Inflows     Outflows     Market
Impact
   

At

September 30,

2018

 

Separately managed1

  $ 267     $ 14     $ (6   $ (3   $ 272   

Unified managed

    259       11       (8     5       267   

Mutual fund advisory

    20       1       (1           20   

Advisor

    149       7       (8     5       153   

Portfolio manager

    367       18       (12     13       386   

Subtotal

  $ 1,062     $ 51     $ (35   $ 20     $ 1,098   

Cash management

    22       4       (4           22   

Total fee-based
client assets

  $ 1,084     $ 55     $ (39   $ 20     $ 1,120   

 

$ in billions  

At

June 30,
2017

    Inflows     Outflows     Market
Impact
   

At

September 30,

2017

 

Separately managed1

  $ 237     $ 8     $ (5   $ 3     $ 243   

Unified managed

    228       11       (7     7       239   

Mutual fund advisory

    21       1       (1           21   

Advisor

    138       9       (7     4       144   

Portfolio manager

    321       18       (11     10       338   

Subtotal

  $ 945     $ 47     $ (31   $ 24     $ 985   

Cash management

    17       3       (2           18   

Total fee-based
client assets

  $ 962     $ 50     $ (33   $ 24     $ 1,003   
$ in billions  

At

December 31,
2017

    Inflows     Outflows     Market
Impact
   

At

September 30,

2018

 

Separately managed1

  $ 252      $ 30      $ (15    $ 5     $ 272   

Unified managed

    250       36       (23     4       267   

Mutual fund advisory

    21             (2     1       20   

Advisor

    149       22       (22     4       153   

Portfolio manager

    353       55       (31     9       386   

Subtotal

  $       1,025      $ 143      $ (93    $ 23     $ 1,098   

Cash management

    20       14       (12           22   

Total fee-based
client assets

  $ 1,045      $ 157      $ (105    $ 23     $       1,120   
$ in billions  

At

December 31,
2016

    Inflows     Outflows     Market
Impact
   

At

September 30,

2017

 

Separately managed1

  $ 222      $ 24      $ (16    $ 13     $ 243   

Unified managed

    204       36       (22     21       239   

Mutual fund advisory

    21       1       (3     2       21   

Advisor

    125       27       (20     12       144   

Portfolio manager

    285       57       (29     25       338   

Subtotal

  $ 857      $ 145      $ (90    $ 73     $ 985   

Cash management

    20       9       (11           18   

Total fee-based
client assets

  $ 877      $ 154      $ (101    $ 73     $ 1,003   

 

1.

Includes non-custody account values reflecting prior quarter-end balances due to a lag in the reporting of asset values by third-party custodians.

Average Fee Rates

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
Fee rate in bps   2018     2017     2018     2017  

Separately managed

    15       17       16       16   

Unified managed

    97       97       97       98   

Mutual fund advisory

    119       118       119       118   

Advisor

    84       84       84       84   

Portfolio manager

    95       94       95       96   

Subtotal

    75       76       76       76   

Cash management

    6       6       6        

Total fee-based client assets

    74       75       74       75   
 

 

September 2018 Form 10-Q   14  


Table of Contents
Management’s Discussion and Analysis    LOGO

 

Investment Management

Income Statement Information

 

    Three Months Ended
September 30,
       
$ in millions   2018     2017     % Change   

Revenues

     

Trading

  $ 2     $ (7     N/M   

Investments

    40       114       (65)%   

Asset management

    604       568       6%   

Other

    (3     1       N/M   

Total non-interest revenues

    643       676       (5)%   

Interest income

    19       1       N/M   

Interest expense

    9       2       N/M   

Net interest

    10       (1     N/M   

Net revenues

    653       675       (3)%   

Compensation and benefits

    269       311       (14)%   

Non-compensation expenses

    282       233       21%   

Total non-interest expenses

    551       544       1%   

Income from continuing operations before income taxes

    102       131       (22)%   

Provision for income taxes

    18       16       13%   

Income from continuing operations

    84       115       (27)%   

Income from discontinued operations, net of income taxes

    2             N/M   

Net income

    86       115       (25)%   

Net income applicable to noncontrolling interests

    6       1       N/M   

Net income applicable to
Morgan Stanley

  $ 80     $ 114       (30)%   

 

    Nine Months Ended
September 30,
       
$ in millions     2018       2017     % Change   

Revenues

     

Trading

  $ 23     $ (21     N/M   

Investments

    172       337       (49)%   

Asset management

    1,840       1,624       13%   

Other

    10       9       11%   

Total non-interest revenues

    2,045       1,949       5%   

Interest income

    37       3       N/M   

Interest expense

    20       3       N/M   

Net interest

    17             N/M   

Net revenues

    2,062       1,949       6%   

Compensation and benefits

    845       878       (4)%   

Non-compensation expenses

    827       695       19%   

Total non-interest expenses

    1,672       1,573       6%   

Income from continuing operations before income taxes

    390       376       4%   

Provision for income taxes

    73       87       (16)%   

Income from continuing operations

    317       289       10%   

Income from discontinued operations,
net of income taxes

    2             N/M   

Net income

    319       289       10%   

Net income applicable to
noncontrolling interests

    8       8       —%   

Net income applicable to
Morgan Stanley

  $ 311     $ 281       11%   

Net Revenues

Investments

Investments gains of $40 million in the current quarter compared with $114 million in the prior year quarter reflect lower carried interest in certain infrastructure and multi-manager private equity funds.

Investments gains of $172 million in the current year period compared with $337 million in the prior year period reflect lower carried interest in certain infrastructure funds and the reversal of previously accrued carried interest in certain Asia private equity funds, primarily due to losses associated with weakening Asia-Pacific currencies.

Asset Management

Asset management revenues of $604 million in the current quarter and $1,840 million in the current year period increased 6% and 13%, respectively, primarily as a result of higher average long-term AUM. See “AUM Rollforwards” herein.

The adoption of the accounting update Revenue from Contracts with Customers had the effect of increasing Asset management revenues due to the gross presentation of distribution fees. This increase (approximately $17 million in the current quarter and $61 million in the current year period) was partially offset by the delayed recognition of certain performance fees not in the form of carried interest until they are no longer probable of reversing. See Notes 2 and 19 to the financial statements for further details.

Non-interest Expenses

Non-interest expenses of $551 million in the current quarter and $1,672 million in the current year period increased 1% and 6%, respectively, primarily due to higher Non-compensation expenses.

 

 

Compensation and benefits expenses decreased in the current quarter and current year period due to decreases in deferred compensation associated with carried interest and the fair value of investments to which certain deferred compensation plans are referenced. In the current year period, these decreases were partially offset by increases in salaries and discretionary incentive compensation.

 

 

Non-compensation expenses increased in the current quarter and current year period primarily as a result of higher fee sharing on increased average AUM balances and the gross presentation of distribution fees due to the adoption of the accounting update Revenue from Contracts with Customers. See “Asset Management” above.

 

 

  15   September 2018 Form 10-Q


Table of Contents
Management’s Discussion and Analysis    LOGO

 

Income Tax Items

The effective tax rate in the current year period is lower compared with the prior year period primarily as a result of the enactment of the Tax Act. For a discussion of the Tax Act, see “Supplemental Financial Information and Disclosures—Income Tax Matters” herein.

Assets Under Management or Supervision

For a description of the asset classes and rollforward items in the following tables, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Business Segments—Investment Management—Assets Under Management or Supervision” in the 2017 Form 10-K.

AUM Rollforwards

 

$ in billions  

At

June 30,
2018

    Inflows     Outflows     Market
Impact
    Other1    

At

September 30,

2018

 

Equity

  $ 114     $ 10     $ (9   $ 3     $ (1   $            117   

Fixed income

    69       6       (4                 71   

Alternative/Other

    132       5       (4     1       (1     133   

Long-term AUM subtotal

    315       21       (17     4       (2     321   

Liquidity2

    159       313       (322     1       (1     150   

Total AUM

  $ 474     $ 334     $ (339   $ 5     $ (3   $ 471   

Shares of minority stake assets

    7                                        
$ in billions  

At

June 30,

2017

    Inflows     Outflows     Market
Impact
    Other1    

At

September 30,

2017

 

Equity

  $ 94     $ 5     $ (6   $ 4     $     $                97   

Fixed income

    66       7       (5     1             69   

Alternative/Other

    121       5       (3     1       1       125   

Long-term AUM subtotal

    281       17       (14     6       1       291   

Liquidity

    154       279       (277     1       (1     156   

Total AUM

  $ 435     $ 296     $ (291   $ 7     $     $ 447   

Shares of minority stake assets

    8                                        
$ in billions  

At

December 31,
2017

    Inflows     Outflows     Market
Impact
    Other1    

At

September 30,

2018

 

Equity

  $ 105     $ 30     $ (23   $ 6     $ (1   $                117   

Fixed income

    73       20       (20     (1     (1     71   

Alternative/Other

    128       16       (13     2             133   

Long-term AUM subtotal

    306       66       (56     7       (2     321   

Liquidity2

    176       1,013       (1,039     2       (2     150   

Total AUM

  $         482     $  1,079     $ (1,095   $ 9     $ (4   $ 471   

Shares of minority stake assets

    7                                        
$ in billions  

At

December 31,
2016

    Inflows     Outflows     Market
Impact
    Other1    

At

September 30,

2017

 

Equity

  $ 79     $ 16     $ (16   $ 17     $ 1     $ 97   

Fixed income

    60       20       (16     3       2       69   

Alternative/Other

    115       18       (13     5             125   

Long-term AUM subtotal

    254       54       (45     25       3       291   

Liquidity

    163       915       (923     1             156   

Total AUM

  $ 417     $ 969     $ (968   $ 26     $ 3     $                447   

Shares of minority stake assets

    8                                        

 

1.

Includes distributions and foreign currency impact for all periods and the impact of the Mesa West Capital, LLC acquisition in the current year period.

2.

Included in Liquidity products outflows in the current quarter and current year period are $(8) billion and $(18) billion, respectively, related to the redesign of our brokerage sweep deposits program. See “Liquidity and Capital Resources—Unsecured Financing” herein for more information.

Average AUM

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
$ in billions   2018     2017     2018     2017  

Equity

  $ 116     $ 96     $ 112     $ 90   

Fixed income

    70       68       72       65   

Alternative/Other

    133       123       131       120   

Long-term AUM subtotal

    319       287       315       275   

Liquidity

    153       156       159       155   

Total AUM

  $ 472     $ 443     $ 474     $ 430   

Shares of minority
stake assets

    7       7       7        

Average Fee Rate

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
Fee rate in bps   2018     2017     2018     2017  

Equity

    76       75       76       74   

Fixed income

    33       34       34       33   

Alternative/Other

    65       68       67       69   

Long-term AUM

    62       62       62       62   

Liquidity

    17       18       18       18   

Total AUM

    47       47       47       46   
 

 

September 2018 Form 10-Q   16  


Table of Contents
Management’s Discussion and Analysis    LOGO

 

Supplemental Financial Information and Disclosures

Income Tax Matters

Effective Tax Rate from Continuing Operations

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
     2018     2017     2018     2017  

U.S. GAAP

    24.4     28.1     21.9     29.7%  

Adjusted effective income tax rate—non-GAAP1

            24.6             31.4             22.8             30.5%  

Net discrete tax provisions/(benefits)

 

                       

Intermittent2

  $ (4   $ (83   $ (92   $ (65)  

Recurring3

  $     $ (11   $ (164   $ (139)  

 

1.

Adjusted effective income tax rate is a non-GAAP measure which excludes intermittent net discrete tax provisions (benefits). For further information on non-GAAP measures, see “Selected Non-GAAP Financial Information” herein.

2.

Includes all tax provisions (benefits) which have been determined to be discrete, other than recurring-type items as defined below.

3.

Recurring-type discrete tax benefits represent income tax consequences associated with employee share-based awards, which are recognized in Provision for income taxes in the income statements but are excluded from the intermittent net discrete tax provisions (benefits) adjustment as we anticipate conversion activity each quarter.

The current year period includes intermittent net discrete tax benefits primarily associated with new information pertaining to the resolution of multi-jurisdiction tax examinations and other matters. The prior year quarter and prior year period included intermittent net discrete tax benefits primarily resulting from the remeasurement of certain deferred taxes.

The effective tax rate reflects our current assumptions, estimates and interpretations related to the Tax Act and other factors. The Tax Act, enacted on December 22, 2017, significantly revised U.S. corporate income tax law by, among other things, reducing the corporate income tax rate to 21%, and implementing a modified territorial tax system that includes a one-time transition tax on deemed repatriated earnings of non-U.S. subsidiaries; imposes a minimum tax on global intangible low-taxed income (“GILTI”) and an alternative base erosion and anti-abuse tax (“BEAT”) on U.S. corporations that make deductible payments to non-U.S. related persons in excess of specified amounts; and broadens the tax base by partially or wholly eliminating tax deductions for certain historically deductible expenses. Our income tax estimates may change as additional clarification and implementation guidance continue to be received from the U.S. Treasury Department and as the interpretation of the Tax Act evolves over time.

U.S. Bank Subsidiaries

Our U.S. bank subsidiaries, Morgan Stanley Bank N.A. (“MSBNA”) and Morgan Stanley Private Bank, National Association (“MSPBNA”) (collectively, “U.S. Bank Subsidiaries”) accept deposit accounts, provide loans to a variety of customers, from large corporate and institutional clients to high net worth individuals, and invest in securities. The

lending activities in the Institutional Securities business segment primarily include loans and lending commitments to corporate clients. The lending activities in the Wealth Management business segment primarily include: securities-based lending, which allows clients to borrow money against the value of qualifying securities; and residential real estate loans.

We expect our lending activities to continue to grow through further market penetration of our client base. For a further discussion of our credit risks, see “Quantitative and Qualitative Disclosures about Risk—Credit Risk.” For further discussion about loans and lending commitments, see Notes 7 and 11 to the financial statements.

U.S. Bank Subsidiaries’ Supplemental Financial Information1

 

$ in billions  

At

September 30,

2018

   

At

December 31,

2017

 

Assets

  $ 203.2     $ 185.3   

Investment securities portfolio:

   

Investment securities—AFS

    41.5       42.0   

Investment securities—HTM

    19.0       17.5   

Total investment securities

  $ 60.5     $ 59.5   

Deposits2

  $ 174.4     $ 159.1   

Wealth Management

   

Securities-based lending and other loans3

  $ 44.4     $ 41.2   

Residential real estate loans

    26.7       26.7   

Total

  $ 71.1     $ 67.9   

Institutional Securities

   

Corporate loans

  $ 30.0     $ 24.2   

Wholesale real estate loans

    10.9       12.2   

Total

  $ 40.9     $ 36.4   

 

1.

Amounts exclude transactions between the bank subsidiaries as well as deposits from the Parent Company and affiliates.

2.

For further information on deposits, see “Liquidity and Capital Resources—Funding Management—Unsecured Financing” herein.

3.

Other loans primarily include tailored lending.

Accounting Development Updates

The Financial Accounting Standards Board has issued certain accounting updates that apply to us. Accounting updates not listed below were assessed and determined to be either not applicable or are not expected to have a significant impact on our financial statements.

The following accounting updates are currently being evaluated to determine the potential impact of adoption:

 

 

Derivatives and Hedging (ASU 2018-16). The amendments in this update permit use of the Overnight Index Swap (“OIS”) rate based on the Secured Overnight Financing Rate (“SOFR”) as a U.S. benchmark interest rate for hedge accounting purposes. This update is effective for us as of

 

 

  17   September 2018 Form 10-Q


Table of Contents
Management’s Discussion and Analysis    LOGO

 

 

January 1, 2019, with early adoption permitted. This update does not impact our existing hedges.

 

 

Leases. This accounting update requires lessees to recognize in the balance sheet all leases with terms exceeding one year, which results in the recognition of a right of use asset and corresponding lease liability, including for those leases that we currently classify as operating leases. The accounting for leases where we are the lessor is largely unchanged.

The right of use asset and lease liability will initially be measured using the present value of the remaining rental payments. This change to the accounting for leases where we are lessee requires modifications to our lease accounting systems and determining the discount rate to use in calculating the present value of the remaining rental payments. We will adopt this accounting update as of the effective date, January 1, 2019. Based upon our current population of leases, we expect the right of use asset and corresponding lease liability to be less than 1% of our total assets.

 

 

Financial Instruments–Credit Losses. This accounting update impacts the impairment model for certain financial assets measured at amortized cost by requiring a CECL methodology to estimate expected credit losses over the entire life of the financial asset, recorded at inception or purchase. CECL will replace the loss model currently applicable to loans held for investment, HTM securities and other receivables carried at amortized cost.

The update also eliminates the concept of other-than-temporary impairment for AFS securities. Impairments on AFS securities will be required to be recognized in earnings through an allowance, when the fair value is less than amortized cost and a credit loss exists or the securities are expected to be sold before recovery of amortized cost.

Under the update, there may be an ability to determine there are no expected credit losses in certain circumstances, e.g., based on collateral arrangements for lending and financing transactions or based on the credit quality of the borrower or issuer.

Overall, the amendments in this update are expected to accelerate the recognition of credit losses for portfolios where the CECL models will be applied. This update is effective as of January 1, 2020.

Critical Accounting Policies

Our financial statements are prepared in accordance with U.S. GAAP, which requires us to make estimates and assumptions (see Note 1 to the financial statements). We believe that of our significant accounting policies (see Note 2 to the financial

statements in the 2017 Form 10-K and Note 2 to the financial statements), the fair value, goodwill and intangible assets, legal and regulatory contingencies and income taxes policies involve a higher degree of judgment and complexity. For a further discussion about our critical accounting policies, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies” in the 2017 Form 10-K.

Liquidity and Capital Resources

Senior management, with oversight by the Asset and Liability Management Committee and the Board of Directors (“Board”), establishes and maintains our liquidity and capital policies. Through various risk and control committees, senior management reviews business performance relative to these policies, monitors the availability of alternative sources of financing, and oversees the liquidity, interest rate and currency sensitivity of our asset and liability position. The Treasury department, Firm Risk Committee, Asset and Liability Management Committee, and other committees and control groups assist in evaluating, monitoring and controlling the impact that our business activities have on our balance sheet, liquidity and capital structure. Liquidity and capital matters are reported regularly to the Board and the Risk Committee of the Board.

Balance Sheet

We monitor and evaluate the composition and size of our balance sheet on a regular basis. Our balance sheet management process includes quarterly planning, business-specific thresholds, monitoring of business-specific usage versus key performance metrics and new business impact assessments.

We establish balance sheet thresholds at the consolidated and business segment levels. We monitor balance sheet utilization and review variances resulting from business activity or market fluctuations. On a regular basis, we review current performance versus established thresholds and assess the need to re-allocate our balance sheet based on business unit needs. We also monitor key metrics, including asset and liability size and capital usage.

Total Assets by Business Segment

 

    At September 30, 2018  
$ in millions   IS     WM     IM     Total  

Assets

       

Cash and cash equivalents1

  $ 73,425     $ 18,972     $ 84     $ 92,481   

Trading assets at fair value

    279,579       71       3,538       283,188   

Investment securities

    22,742       59,826             82,568   

Securities purchased under agreements to resell

    57,663       11,423             69,086   

Securities borrowed

    142,177       312             142,489   

Customer and other receivables

    43,010       17,256       573       60,839   

Loans, net of allowance2

    38,878       71,100       5       109,983   

Other assets3

    14,034       9,206       1,643       24,883   

Total assets

  $   671,508     $   188,166     $   5,843     $   865,517   

 

 

 

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    At December 31, 2017  
$ in millions   IS     WM     IM     Total  

Assets

       

Cash and cash equivalents1

  $ 63,597     $ 16,733     $ 65     $ 80,395   

Trading assets at fair value

    295,678       59       2,545       298,282   

Investment securities

    19,556       59,246             78,802   

Securities purchased under agreements to resell

    74,732       9,526             84,258   

Securities borrowed

    123,776       234             124,010   

Customer and other receivables

    36,803       18,763       621       56,187   

Loans, net of allowance2

    36,269       67,852       5       104,126   

Other assets3

    14,563       9,596       1,514       25,673   

Total assets

  $   664,974     $   182,009     $       4,750     $   851,733   

IS—Institutional Securities

WM—Wealth Management

IM—Investment Management

1.

Cash and cash equivalents includes Cash and due from banks, Interest bearing deposits with banks and Restricted cash.

2.

Amounts include loans held for investment (net of allowance) and loans held for sale but exclude loans at fair value, which are included in Trading assets in the balance sheets (see Note 7 to the financial statements).

3.

Other assets primarily includes Goodwill, Intangible assets, premises, equipment, software, other investments, and deferred tax assets.

A substantial portion of total assets consists of liquid marketable securities and short-term receivables arising principally from sales and trading activities in the Institutional Securities business segment. Total assets increased to $865.5 billion at September 30, 2018 from $851.7 billion at December 31, 2017, primarily due to increases in loans across all segments, as well as a net increase to support client activity in secured financings as reflected in Securities borrowed and Securities purchased under agreements to resell in the Institutional Securities business segment. Trading assets within the Institutional Securities business segment declined due to reductions in Equities inventory to support changes in client positioning, which resulted in greater liquidity, as reflected by increases in Cash and cash equivalents and Investment securities.

Liquidity Risk Management Framework

The primary goal of our Liquidity Risk Management Framework is to ensure that we have access to adequate funding across a wide range of market conditions and time horizons. The framework is designed to enable us to fulfill our financial obligations and support the execution of our business strategies.

The core components of our Liquidity Risk Management Framework are the Required Liquidity Framework, Liquidity Stress Tests and the GLR, which support our target liquidity profile. For further discussion about the Firm’s Required Liquidity Framework and Liquidity Stress Tests, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources— Liquidity Risk Management Framework” in the 2017 Form 10-K.

At September 30, 2018 and December 31, 2017, we maintained sufficient liquidity to meet current and contingent funding obligations as modeled in our Liquidity Stress Tests.

Global Liquidity Reserve

We maintain sufficient global liquidity reserves pursuant to our Required Liquidity Framework. For further discussion of our GLR, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Liquidity Risk Management Framework—Global Liquidity Reserve” in the 2017 Form 10-K.

GLR by Type of Investment

 

 $ in millions  

At

September 30,
2018

   

At

December 31,
2017

 

 Cash deposits with banks1

  $ 10,647     $ 7,167    

 Cash deposits with central banks1

    43,772       33,791    

 Unencumbered highly liquid securities:

   

U.S. government obligations

    93,545       73,422    

U.S. agency and agency mortgage-backed securities

    32,422       55,750    

Non-U.S. sovereign obligations2

    32,019       19,424    

Other investment grade securities

    2,443       3,106    

 Total

  $                 214,848     $                 192,660    

 

1.

Included in Cash and due from banks and Interest bearing deposits with banks in the balance sheets.

2.

Non-U.S. sovereign obligations are primarily composed of unencumbered Japanese, U.K., German, Brazilian and French government obligations.

GLR Managed by Bank and Non-Bank Legal Entities

 

 $ in millions   At
September 30,
2018
    At
December 31,
2017
   

Average Daily Balance

Three Months Ended

September 30, 2018

 

Bank legal entities

 

   

Domestic

  $ 78,320     $ 70,364     $ 76,899    

Foreign

    4,628       4,756       4,343    

Total Bank legal entities

    82,948       75,120       81,242    

Non-Bank legal entities

 

   

Domestic:

     

Parent Company

    44,064       41,642       63,328    

Non-Parent Company

    31,992       35,264       31,208    

Total Domestic

    76,056       76,906       94,536    

Foreign

    55,844       40,634       53,195    

Total Non-Bank legal entities

    131,900       117,540       147,731    

Total

  $             214,848     $             192,660     $             228,973    

Regulatory Liquidity Framework

Liquidity Coverage Ratio

We and our U.S. Bank Subsidiaries are subject to LCR requirements including a requirement to calculate each entity’s LCR on each business day. The requirements are designed to ensure that banking organizations have sufficient HQLA to cover net cash outflows arising from significant stress over 30 calendar days, thus promoting the short-term resilience of the liquidity risk profile of banking organizations.

 

 

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The regulatory definition of HQLA is substantially the same as our GLR. GLR includes cash placed at institutions other than central banks that is considered an inflow for LCR purposes. HQLA includes a portion of cash placed at central banks, certain unencumbered investment grade corporate bonds and publicly traded common equities, which do not meet the definition of our GLR.

Based on our daily calculations, we and our U.S. Bank Subsidiaries are compliant with the minimum required LCR of 100%.

HQLA by Type of Asset and LCR

 

   

Average Daily Balance

Three Months Ended

 
 $ in millions  

 

September 30, 2018

    June 30, 2018  

HQLA

   

Cash deposits with central banks

  $ 48,962     $                 38,456  

Securities1

    140,060       128,268  

Total

  $ 189,022     $   166,724  

LCR

    135%       128%  

 

1.

Primarily includes U.S. Treasuries, U.S. agency mortgage-backed securities, sovereign bonds, publicly traded common equities, and investment grade corporate bonds.

The increase in the LCR in the current quarter is due to increased HQLA, consistent with higher liquidity levels.

The Firm’s calculations are based on our current understanding of the LCR and other factors, which may be subject to change as we receive additional clarification and implementation guidance from regulators relating to the LCR, and as the interpretation of the LCR evolves over time.

Net Stable Funding Ratio

The objective of the NSFR is to reduce funding risk over a one-year horizon by requiring banking organizations to fund their activities with sufficiently stable sources of funding in order to mitigate the risk of future funding stress.

The Basel Committee on Banking Supervision (“Basel Committee”) has previously finalized the NSFR framework. In May 2016, the U.S. banking agencies issued a proposal to implement the NSFR in the U.S., which would apply to us and our U.S. Bank Subsidiaries. Our preliminary estimates, based on the current proposal, indicate that actions will be necessary to meet the requirement, which we would expect to accomplish by the effective date of any final rule. Our preliminary estimates are subject to risks and uncertainties that may cause actual results based on the final rule to differ materially from estimates. For an additional discussion of the NSFR, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Regulatory Liquidity Framework—Net Stable Funding Ratio” in the 2017 Form 10-K.

Funding Management

We manage our funding in a manner that reduces the risk of disruption to our operations. We pursue a strategy of diversification of secured and unsecured funding sources (by product, investor and region) and attempt to ensure that the tenor of our liabilities equals or exceeds the expected holding period of the assets being financed.

We fund our balance sheet on a global basis through diverse sources. These sources may include our equity capital, borrowings, securities sold under agreements to repurchase, securities lending, deposits, letters of credit and lines of credit. We have active financing programs for both standard and structured products targeting global investors and currencies.

Secured Financing

For a discussion of our secured financing activities, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Funding Management—Secured Financing” in the 2017 Form 10-K.

At September 30, 2018 and December 31, 2017, the weighted average maturity of our secured financing of less liquid assets was greater than 120 days.

Collateralized Financing Transactions

 

$ in millions   At
September 30,
2018
    At
December 31,
2017
 

Securities purchased under agreements to resell and Securities borrowed

  $ 211,575     $ 208,268  

Securities sold under agreements to repurchase and Securities loaned

  $ 72,161     $ 70,016  

Securities received as collateral1

  $ 8,865     $ 13,749  

 

   

Average Daily Balance

Three Months Ended

 
 $ in millions  

 

September 30,
2018

    December 31,
2017
 

 Securities purchased under agreements to resell and Securities borrowed

  $ 229,243     $ 214,343  

 Securities sold under agreements to repurchase and Securities loaned

  $ 59,346     $ 66,879  

 

1.

Included in Trading assets in the balance sheets.

See Note 2 to the financial statements in the 2017 Form 10-K and Note 6 to the financial statements for more details on collateralized financing transactions.

In addition to the collateralized financing transactions shown in the previous table, we also engage in financing transactions collateralized by customer-owned securities, which are segregated in accordance with regulatory requirements. Receivables under these financing transactions, primarily margin loans, are included in Customer and other receivables in the balance sheets, and payables under these financing transac-

 

 

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tions, primarily to prime brokerage customers, are included in Customer and other payables in the balance sheets. Our risk exposure on these transactions is mitigated by collateral maintenance policies that limit our credit exposure to customers and liquidity reserves held against this risk exposure.

Unsecured Financing

For a discussion of our unsecured financing activities, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Funding Management—Unsecured Financing” in the 2017 Form 10-K.

Deposits

 

$ in millions   At
September 30,
2018
    At
December 31,
2017
 

Savings and demand deposits:

   

Brokerage sweep deposits1

  $ 132,835     $ 135,946  

Savings and other

    11,127       8,541  

Total Savings and demand deposits

    143,962       144,487  

Time deposits2

    31,223       14,949  

Total

  $ 175,185     $ 159,436  

 

1.

Represents balances swept from client brokerage accounts.

2.

Certain time deposit accounts are carried at fair value under the fair value option (see Note 3 to the financial statements).

Deposits are primarily sourced from our Wealth Management clients and are considered to have stable, low-cost funding characteristics. Total deposits at September 30, 2018 increased compared with December 31, 2017, primarily driven by increases in Time deposits and Savings and other deposits, partially offset by a reduction in Brokerage sweep deposits due to client deployment of cash into investments and typical seasonal client tax payments. While Brokerage sweep deposits declined since December 31, 2017, the redesign of our brokerage sweep deposit program initiated in the second quarter of 2018 resulted in inflows of approximately $18 billion. These inflows corresponded with outflows from Liquidity products AUM in the Investment Management business segment (see “Business Segments—Investment Management—Assets Under Management or Supervision” herein for more information).

Borrowings

We believe that accessing debt investors through multiple distribution channels helps provide consistent access to the unsecured markets. In addition, the issuance of borrowings with original maturities greater than one year allows us to reduce reliance on short-term credit sensitive instruments. Borrowings with original maturities greater than one year are generally managed to achieve staggered maturities, thereby mitigating refinancing risk, and to maximize investor diversification through sales to global institutional and retail clients across regions, currencies and product types.

The availability and cost of financing to us can vary depending on market conditions, the volume of certain trading and lending activities, our credit ratings and the overall availability of credit. We also engage in, and may continue to engage in, repurchases of our borrowings in the ordinary course of business.

Borrowings by Remaining Maturity at September 30, 20181

 

$ in millions   Parent
Company
    Subsidiaries     Total  

Original maturities of one year or less

  $ 2     $ 938     $ 940   
Original maturities greater than one year

 

 

2018

  $ 2,673     $ 1,380     $ 4,053   

2019

    21,352       4,350       25,702   

2020

    18,705       2,713       21,418   

2021

    21,236       3,167       24,403   

2022

    14,935       1,961       16,896   

Thereafter

    80,300       17,177       97,477   

Total

  $     159,201     $ 30,748     $ 189,949   

Total Borrowings

  $ 159,203     $ 31,686     $     190,889   

Maturities over next 12 months2

 

  $ 24,122   

 

1.

Original maturity in the table is generally based on contractual final maturity. For borrowings with put options, remaining maturity represents the earliest put date.

2.

Includes only borrowings with original maturities greater than one year.

Borrowings of $190,889 million as of September 30, 2018 remained relatively unchanged compared with $192,582 million at December 31, 2017.

For further information on Borrowings, see Note 10 to the financial statements.

Credit Ratings

We rely on external sources to finance a significant portion of our daily operations. The cost and availability of financing generally are impacted by our credit ratings, among other things. In addition, our credit ratings can have an impact on certain trading revenues, particularly in those businesses where longer-term counterparty performance is a key consideration, such as OTC derivative transactions, including credit derivatives and interest rate swaps. When determining credit ratings, rating agencies consider company-specific factors, other industry factors such as regulatory or legislative changes, and the macroeconomic environment, among other things.

Our credit ratings do not include any uplift from perceived government support from any rating agency given the significant progress of U.S. financial reform legislation and regulations. Some rating agencies have stated that they currently incorporate various degrees of credit rating uplift from non-governmental third-party sources of potential support.

 

 

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Parent Company and MSBNA Senior Unsecured Ratings at October 31, 2018

 

    Parent Company
    

 

Short-Term    

Debt    

 

 

Long-Term

Debt

 

 

    Rating  

    Outlook  

DBRS, Inc.

  R-1 (middle)       A (high)       Stable  

Fitch Ratings, Inc.

  F1       A       Stable  

Moody’s Investors Service, Inc.

  P-2       A3       Stable  

Rating and Investment Information, Inc.

  a-1       A-       Stable  

S&P Global Ratings

  A-2       BBB+       Stable  

 

    MSBNA
    

 

Short-Term    

Debt    

 

 

Long-Term
Debt

 

 

    Rating  

    Outlook  

Fitch Ratings, Inc.

  F1       A+       Stable  

Moody’s Investors Service, Inc.

  P-1       A1       Stable  

S&P Global Ratings

  A-1       A+       Stable  

Incremental Collateral or Terminating Payments

In connection with certain OTC derivatives and certain other agreements where we are a liquidity provider to certain financing vehicles associated with the Institutional Securities business segment, we may be required to provide additional collateral, immediately settle any outstanding liability balances with certain counterparties or pledge additional collateral to certain clearing organizations in the event of a future credit rating downgrade irrespective of whether we are in a net asset or net liability position. See Note 4 to the financial statements for additional information on OTC derivatives that contain such contingent features.

While certain aspects of a credit rating downgrade are quantifiable pursuant to contractual provisions, the impact it would have on our business and results of operations in future periods is inherently uncertain and would depend on a number of interrelated factors, including, among others, the magnitude of the downgrade, the rating relative to peers, the rating assigned by the relevant agency pre-downgrade, individual client behavior and future mitigating actions we might take. The liquidity impact of additional collateral requirements is included in our Liquidity Stress Tests.

Capital Management

We view capital as an important source of financial strength and actively manage our consolidated capital position based upon, among other things, business opportunities, risks, capital availability and rates of return together with internal capital policies, regulatory requirements and rating agency guidelines and, therefore, in the future may expand or contract our capital base to address the changing needs of our businesses. We attempt to maintain total capital, on a consolidated basis, at least equal to the sum of our operating subsidiaries’ required equity.

Common Stock

 

    Three Months Ended
September 30,
    Nine Months Ended
September 30,
 
$ in millions     2018         2017         2018         2017    

Repurchases of common stock under our share repurchase program

  $ 1,180     $ 1,250     $ 3,680     $ 2,500  

From time to time we repurchase our outstanding common stock, including as part of our share repurchase program. On April 18, 2018, we entered into a sales plan with Mitsubishi UFJ Financial Group, Inc. (“MUFG”) whereby MUFG sells shares of the Firm’s common stock to us, as part of our share repurchase program. The sales plan is only intended to maintain MUFG’s ownership percentage below 24.9% in order to comply with MUFG’s passivity commitments to the Board of Governors of the Federal Reserve System (“Federal Reserve”) and will have no impact on the strategic alliance between MUFG and us, including the joint ventures in Japan. For a description of our share repurchase program, see “Unregistered Sales of Equity Securities and Use of Proceeds.”

For a description of our capital plan, see “Liquidity and Capital Resources—Regulatory Requirements—Capital Plans and Stress Tests.”

Common Stock Dividend Announcement

 

Announcement date

  October 16, 2018

Amount per share

  $0.30

Date to be paid

  November 15, 2018

Shareholders of record as of

  October 31, 2018

Preferred Stock

Preferred Stock Dividend Announcement

 

Announcement date

  September 17, 2018

Date paid

  October 15, 2018

Shareholders of record as of

  September 28, 2018

For additional information on common and preferred stock, see Note 14 to the financial statements.

 

 

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Regulatory Requirements

Regulatory Capital Framework

We are a financial holding company (“FHC”) under the Bank Holding Company Act of 1956, as amended (“BHC Act”), and are subject to the regulation and oversight of the Federal Reserve. The Federal Reserve establishes capital requirements for us, including “well-capitalized” standards, and evaluates our compliance with such capital requirements. The OCC establishes similar capital requirements and standards for our U.S. Bank Subsidiaries. For us to remain an FHC, we must remain well-capitalized in accordance with standards established by the Federal Reserve and our U.S. Bank Subsidiaries must remain well-capitalized in accordance with standards established by the OCC. For additional information on regulatory capital requirements for our U.S. Bank Subsidiaries, see Note 13 to the financial statements.

Regulatory capital requirements established by the Federal Reserve are largely based on the Basel III capital standards established by the Basel Committee and also implement certain provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”).

Regulatory Capital Requirements

We are required to maintain minimum risk-based and leverage-based capital ratios under the regulatory capital requirements. For more information on our regulatory capital requirements, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Regulatory Capital Requirements” in the 2017 Form 10-K.

Risk-based Regulatory Capital.    Minimum risk-based capital ratio requirements apply to Common Equity Tier 1 capital, Tier 1 capital and Total capital (which includes Tier 2 capital). Certain adjustments to and deductions from capital are required for purposes of determining these ratios, such as goodwill, intangible assets, certain deferred tax assets, other amounts in AOCI and investments in the capital instruments of unconsolidated financial institutions.

In addition to the minimum risk-based capital ratio requirements, by 2019 we will be subject to the following buffers:

 

 

A greater than 2.5% Common Equity Tier 1 capital conservation buffer;

 

 

The Common Equity Tier 1 G-SIB capital surcharge, currently at 3%; and

 

 

Up to a 2.5% Common Equity Tier 1 CCyB, currently set by U.S. banking agencies at zero.

In 2018, each of the buffers is 75% of the 2019 requirement noted above (during 2017, the buffers were 50%). Failure to maintain the buffers would result in restrictions on our ability to make capital distributions, including the payment of dividends and the repurchase of stock, and to pay discretionary bonuses to executive officers. For a further discussion of the G-SIB capital surcharge, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Regulatory Requirements—G-SIB Capital Surcharge” in the 2017 Form 10-K.

Our risk-based capital ratios for purposes of determining regulatory compliance are the lower of the capital ratios computed under (i) the standardized approaches for calculating credit risk and market risk RWA (“Standardized Approach”) and (ii) the applicable advanced approaches for calculating credit risk, market risk and operational risk RWA (“Advanced Approach”). At September 30, 2018 and December 31, 2017, our ratios are based on the Standardized Approach rules.

Effective January 1, 2019, Common Equity Tier 1 capital, Tier 1 capital and Total capital requirements, inclusive of buffers, will increase to 10.0%, 11.5%, and 13.5%, respectively.

See “Total Loss-Absorbing Capacity, Long-Term Debt and Clean Holding Company Requirements” herein for additional capital requirements effective January 1, 2019.

Leverage-based Regulatory Capital. Minimum leverage-based capital requirements include a Tier 1 leverage ratio and an SLR. The SLR became effective as a capital standard on January 1, 2018. We are required to maintain a Tier 1 SLR of 3% as well as an enhanced SLR capital buffer of at least 2% (for a total of at least 5%) in order to avoid potential limitations on capital distributions, including dividends and stock repurchases, and discretionary bonus payments to executive officers.

 

 

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Regulatory Capital Ratios

 

    At September 30, 2018  

$ in millions

 

Required

 

Ratio

   

 

Fully Phased-In

 
  Standardized     Advanced  

Risk-based capital

     

Common Equity Tier 1 capital

          $ 61,758      $ 61,758   

Tier 1 capital

            70,328        70,328   

Total capital

            79,899        79,649   

Total RWA

            370,714        357,055   

Common Equity Tier 1 capital ratio

    8.6%       16.7%       17.3%  

Tier 1 capital ratio

    10.1%       19.0%       19.7%  

Total capital ratio

    12.1%       21.6%       22.3%  

Leverage-based capital

     

Adjusted average assets1

          $ 858,944        N/A   

Tier 1 leverage ratio

    4.0%       8.2%       N/A   

Supplementary leverage exposure2

            N/A       $     1,101,263   

SLR

    5.0%       N/A         6.4%  

 

    At December 31, 2017  
   

Required

 

Ratio

    Transitional3          

 

Pro Forma Fully

Phased-In

 
$ in millions   Standardized     Advanced            Standardized     Advanced  

Risk-based capital

 

         

Common Equity Tier 1 capital

          $ 61,134      $ 61,134              $ 60,564      $ 60,564   

Tier 1 capital

            69,938        69,938                69,120        69,120   

Total capital

            80,275        80,046                79,470        79,240   

Total RWA

            369,578        350,212                377,241        358,324   

Common Equity Tier 1 capital ratio

    7.3%       16.5%       17.5%               16.1%       16.9%  

Tier 1 capital ratio

    8.8%       18.9%       20.0%               18.3%       19.3%  

Total capital ratio

    10.8%       21.7%       22.9%               21.1%       22.1%  

Leverage-based capital

 

         

Adjusted average assets1

          $ 842,270        N/A               $ 841,756        N/A    

Tier 1 leverage ratio

    4.0%       8.3%       N/A                 8.2%       N/A    

Supplementary leverage exposure2

            N/A       $   1,082,683                N/A       $   1,082,170